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What Shale Gas Means for Oil Prices

The general direction of oil prices over the next several years is a polarizing topic. While many contend that it's useless to attempt to predict oil prices, understanding the key drivers of oil prices can be a useful exercise for investors, or, at the very least, an interesting one.

One such driver, perhaps ironically, is the U.S. shale gas boom, which was spurred on by the same technologies that made the country's oil boom possible. According to Ed Morse, head of commodities research at Citigroup,the shale gas revolution has massive implications for the price of oil.

How shale gas could lead to lower oil prices Morse predicts that shale gas will continue to gain market share against oil as a leading transport fuel. He argues that it "virtually guarantees" the end of oil's dominance as a transport fuel, subjecting oil to growing price competition – an issue it has managed to avoid in the past due to the paucity of alternatives to kerosene, diesel, and gasoline for use in planes, locomotives, and cars.

Morse suggests that the attractiveness of natural gas as a transport fuel will lead to greater adoption of natural gas vehicles, which are gradually making inroads in some transport sectors, such as trucking. Waste Management (NYSE: WM) , for instance, already boasts a fleet of around 2,000 trucks that are powered by compressed natural gas, or CNG, and plans to add more, while United Parcel Service (NYSE: UPS) recently said that it will purchase 285 more gas-powered trucks next year.

Meanwhile, however, the transition toward gas-powered passenger vehicles has proved excruciatingly slow. Still, the space may be primed for growth, as engine manufacturers like Westport Innovations (NASDAQ: WPRT) team up with automakers to develop better bi-fuel technologies. Earlier this year, Westport announced that its WiNG Power CNG bi-fuel system will be available on Ford's (NYSE: F) Ford F-450 and F-550 Super Duty Chassis Cab trucks.

While these firms are creating the technology required for gas-powered vehicles, companies like Clean Energy Fuels (NASDAQ: CLNE) are hard at work developing the infrastructure required to refuel them. The California-based company is charging ahead with its natural gas highway project, which already boasts more than 300 natural gas refueling stations throughout the country.

Meet the oil bears At any rate, Morse reckons that the transition toward natural gas as a transport fuel will accelerate over the next few years, spurred on by government assistance and by the environmental benefits of natural gas powered vehicles. This shift, Morse argues, will reduce global oil demand by a whopping 3.5 million barrels a day by 2020.

So what do Morse's prognostications about a near-term peak in global oil demand mean for oil prices? In a nutshell, he thinks prices are headed lower over the next decade and estimates Brent crude oil prices to "hover within a range of $80-90/bbl" by 2020.

While Morse's view isn't a mainstream one, there does appear to be a growing chorus of oil bears. Recently, Paolo Scaroni, chief executive of Italy's Eni, one of the largest energy companies in Europe, said that the combination of stagnant oil demand and soaring new supplies implies that oil prices are "more likely to go down than up" over the next two to five years.

Scaroni's view is predicated upon a similar rationale – that the huge disparity between oil and U.S. natural gas prices (on an energy-equivalent basis) is an anomaly that cannot be sustained much longer. Over time, he argues, market forces will correct this price disparity. "These two anomalies, once corrected, move us toward a world in which gas prices are higher and oil prices are lower," he suggests.

What do you think? Are Morse and Scaroni on to something? Or will emerging market demand outpace oil supply growth? Or, alternatively, is there simply just no point in trying to predict where oil prices are headed?

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Fool contributor Arjun Sreekumar has no position in any stocks mentioned. The Motley Fool recommends Clean Energy Fuels, Ford, United Parcel Service, Waste Management, and Westport Innovations. The Motley Fool owns shares of Citigroup Inc , Ford, Waste Management, and Westport Innovations. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

Comments from our Foolish Readers

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While I'm all for fracking and the use of natural gas as a fuel for transportation, I don't see it driving down the price of oil or gasoline that much. Thirty years ago, when bicycles were the primary mode of transportation in China, perhaps, but today China is the worlds largest market for new cars and growing. Millions of those cars will run on gasoline and diesel fuel. Some may run on natural gas and some may even be electric, but as the market continues to grow, they will continue to consume prodigious amounts of oil. It is very useful stuff today, and will continue to be useful stuff in the future. It may not be $100 / barrel 10 years from now, but I will bet it will be closer to $100 than to $10,

Hydraulic Fracturing (Fracking) has very little in common with your grandmother's gas well. Contaminating water sources and nondisclosure agreements should be serious crimes. They are not. Invest ethically. Watch Gasland 1 and Gasland 2 for info that the gas industry is not disclosing.

Sending report...

Arjun is a value-oriented investor focusing primarily on the oil and gas sector, with an emphasis on E&Ps and integrated majors. He also occasionally writes about the US housing market and China’s economy.